Educational Articles

Investing in China

Reuben Gregg Brewer
| July 26, 2011

It seems that no day goes by without China appearing prominently in the financial news. Stories of that nation’s ascendancy are so common that they are eerily reminiscent of the stories about Japan buying America back in the 1970s and 80s. Still, there is no denying that China is “hot” right now in more ways than one—economically it is clearly an increasingly dominant member of the world financial order and, thus, money is flooding into Chinese investment opportunities.

With an increasing number of Chinese companies choosing to list on the U.S. exchanges, it is easy enough to gain exposure to that market. The Value Line Investment Survey covers many of the better known Chinese companies that are listed domestically. (See the table below of some of the Chinese companies Value Line reviews in The Value Line Investment Survey. Additional Chinese companies are covered in other Value Line products.) However, the country’s financial systems are less developed than those of the United States and everything is not always as it seems. So there is a great deal of company specific risk involved in such a purchase. So owning just a small number of individual stocks is a fairly aggressive way to gain exposure to what is a vast market.

Using an exchange traded fund (ETF) is another option. Even here, there are a surprising number of options, from those that employ leverage to provide performance, both up and down, that is a multiple of the Chinese market (Direxion Daily China 3x Bear Shares (CHIM)), to those that track specific subsectors of the Chinese market (Guggenheim China Technology ETF (CQQQ)), to those that track well-diversified, broad-based indexes. Clearly, more aggressive investors could invest in the first two options, but the more conservative should stick with ETFs that track broad based indexes. The latter group includes such options as iShares China(Hong Kong Listed) Index Fund (FCHI), SPDR S&P China ETF (GXC), iShares China 25 (FXI), Guggenheim China All-Cap ETF (YAO), and Market Vectors China A Share ETF (PEK), among others.

While these are solid options, they are basically index funds that follow strict guidelines about what can and cannot be owned, and when investments are rebalanced. As such, there is no person there to make quick changes should something occur in the market either good or bad. This is where an actively managed fund might derive an edge in a fast moving market, such as China’s.

Open-end funds that invest in the country have become fairly ubiquitous, as demand for such offerings has increased. However, Matthews Asia Funds has been investing exclusively in Asia since its founding in the early 1990s. This fund shop is clearly the specialist in the space. The family offered its first China specific fund, Matthews China Fund (MCHFX) in 1998. In 2009, the family launched its second and only other China focused offering, Matthews China Dividend Fund (MCDFX). Both funds are competent performers, with the Dividend Fund providing a somewhat unique investment angle in the space. Note, too, that Matthews provides a material amount of ongoing information for its shareholders, including informative quarterly reports and frequent newsletter style reports that provide insight into both Asia the region and the asset managers’ thoughts. (Note that the company launched Matthews China Small Companies (MCSMX) this year, which doesn’t provide investors with much history by which to judge performance.)

A specialist shop isn’t the only way to gain exposure to China, however, as almost every fund company large enough to open such a fund has done so. Fidelity China Region Fund (FHKCX) has been investing in China in its current form since September of 2000 (the fund’s prospectus notes that prior to that date its investment mandates were different). The fund has performed well and for those wishing to stick with a large family like Fidelity, it would be a good fit for most investors. Note that neither Vanguard nor T. Rowe Price, the other household names in the “do it yourself” mutual fund space, offer China specific funds.

There are similar options in the load fund arena, for those working with a financial advisor, including China centered funds from Aberdeen, Eaton Vance, Invesco, and Templeton. Note, however, that the loads on these funds are used to compensate brokers and financial planners for selling the product to their customers. Although there is nothing wrong with this arrangement, it is incumbent on the customer to ensure that their financial intermediary is providing enough service to justify the load expense.

While the news about China’s growth is enticing, there is good reason to question if placing a focused bet on the nation is worthwhile. The aforementioned example of Japan, which has since seen twenty-plus years of economic malaise since it was thought to be on the brink of taking over the world on an economic basis, is an important cautionary tale. China, for all of its growth, is still a tightly controlled economy lacking many of the safeguards that those investing in developed markets have come to expect. Simply put, there are risks—and big ones at that. Placing too large a bet on this one nation would likely be a mistake. That said, interest in the space is undeniable and at least venturing a look at the options, even if the choice is to pass them by, is very likely a worthwhile endeavor.

At the time of this article's writing, the author did not have positions in any of the companies mentioned.